Why We Use Net Operating Income to Compare Real Estate Properties

When it comes to evaluating real estate investments, one of the most important questions an investor can ask isn’t just “Is this property making money?” but rather, “How efficiently is this property generating income relative to its potential?” To answer that question, investors rely heavily on a metric known as Net Operating Income, or NOI.

NOI is the income a property generates from its regular operations after all necessary day-to-day expenses are paid. It strips away variables that are unique to the investor, such as loan terms, income tax situations, or corporate structure, and focuses only on how the property performs on its own. That makes it the most consistent way to compare properties across markets and deal types.

When you include financing or personal tax outcomes in your analysis, you end up with numbers that say more about the investor than the property. Two people buying the exact same building at the same price could have very different returns depending on their loan terms, tax brackets, or ownership strategies. NOI cuts through that noise and brings the analysis back to the core asset.

Example: Two Identical Properties, Different Financing

Consider the following:

Property A

• Purchase Price: $500,000

• Gross Rental Income: $60,000

• Operating Expenses: $20,000

• Net Operating Income: $40,000

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Property B

• Purchase Price: $500,000

• Gross Rental Income: $60,000

• Operating Expenses: $20,000

• Net Operating Income: $40,000

These two properties are identical in every operational sense. However, if one investor secures a 5% mortgage and another ends up with a 7% rate, the monthly payments and resulting cash flow will differ significantly. One might enjoy $6,000 in annual cash flow, while the other might only see $3,000. Yet, this difference has nothing to do with the properties themselves, it’s entirely dependent on their choice of financing. If we judged the investment solely on cash flow, we might incorrectly conclude that one property is more profitable than the other, when in fact their performance is identical.

Taxes add a similar layer of distortion. In some jurisdictions, property taxes reset upon purchase; in others, they remain fixed or grow at a limited rate. Some investors may hold property in an LLC, while others buy in their personal name. These decisions can dramatically affect after-tax returns but don’t reflect the core strength of the property itself. When comparing properties, these variables introduce noise. NOI filters them out.

Another reason investors rely on NOI is that it forms the foundation for other essential metrics used in real estate. The Capitalization Rate, or Cap Rate, is calculated by dividing NOI by the purchase price. This ratio helps investors compare returns across different properties, cities, and asset classes without bringing financing into the picture. Similarly, the debt service coverage ratio (DSCR), which lenders use to assess risk, is also based on NOI. It shows how easily a property can cover its debt obligations with the income it produces. Appraisers also use NOI to determine market value. If a property earns $100,000 in NOI and the market cap rate is 5%, then the appraised value would be $2,000,000. It’s a direct, finance-free approach to determining what a property is worth based on its income production.

When investors skip over NOI and jump straight to metrics like cash-on-cash return or internal rate of return, they risk building comparisons on unstable ground. A highly leveraged deal might look great on a cash-on-cash basis in the first year, but if the underlying property isn’t generating strong NOI, those returns may be at a greater risk.

Imagine two investors purchase the same apartment building:

• Investor 1 puts 20% down, gets a favorable loan, and benefits from low local taxes.

• Investor 2 puts 10% down, gets a slightly higher interest rate, and faces a property tax reassessment at purchase.

Their net returns will look very different. But that difference is based on their choices, not the profitability of the property. By focusing on NOI first, they can both agree on what the asset is producing in real terms. Then, each investor can plug in their own assumptions about debt, tax, and structure to project their unique outcome.

Without NOI, it’s nearly impossible to isolate the quality of a property from the circumstances of the person buying it. It’s the difference between asking “Is this property profitable?” versus “Will this deal make me money?” Both questions matter—but they serve different purposes.

Net Operating Income serves as the first filter. It helps investors screen properties, compare them fairly, and understand what the real estate is truly generating. From there, you can layer in financing assumptions, tax strategies, and investor-specific preferences. But those additional details should come after NOI, not instead of it.

For this reason, serious real estate investors treat NOI as the foundation of their analysis. It’s not the only metric that matters, but without it, meaningful comparison becomes nearly impossible. By keeping the focus on the property’s performance, free from financial engineering or tax gymnastics, NOI ensures that your comparisons are based on what actually matters: how well the real estate works on its own.